June 27, 2014

August 30, 2014

Figuring out what to do with all the cash the core business generates when it gets humming is where things can get tricky.

The 684-store chain based in Indianapolis trimmed its costs during the recession, putting itself in position to capitalize
on surging sales of popular new styles and build a balance sheet with almost $250 million of cash and zero long-term debt.

Now the chain is working on a three-part strategy for deploying the largesse: reinvesting in the core Finish Line business,
returning cash to shareholders through higher dividends and share repurchases, and diversifying its business either with a
new retail concept developed in-house or through acquisitions.

The third prong may be why Finish Line’s shares have stagnated since posting a 52-week high of $18.11 in April—shortly
after the retailer reported a blowout quarter in which same-store sales soared 10 percent, the chain’s highest quarterly
jump since 2005.

Finish Line for years has tried to leverage its strength in athletic footwear—a relatively mature and slow-growing
retail sector—to branch out into other areas with more room for growth. But its attempts at both acquisitions and developing
its own new concepts so far have failed.

The company paid $12 million in 2005 to acquire hip-hop outfitter Man Alive, then more than doubled the store base to almost
100 outlets. Finish Line unloaded the perennial money-loser last year. In 2006, Finish Line developed an active women’s
concept called Paiva with 15 stores. It shuttered the concept and corresponding e-commerce site a year later.

And in 2007, Finish Line aimed for the fences with a highly leveraged $1.5 billion bid to acquire Tennessee-based Genesco
Inc., the parent company of Journeys and Hat World. The following year, Finish Line had to pay handsomely—about $40
million in cash and 6.5 million of its shares—to extract itself after Genesco’s sales fell sharply.

The missteps won’t stop Finish Line from trying again to diversify its lineup, CEO Glenn Lyon vowed in an interview
with IBJ.

“We’re not going to shy away from going that direction because of our past failures,” said Lyon, 59,
who took the top job in 2008, after the Genesco flap. “The goal is to grow and stay ahead so someone else can’t
realize more value in the company than we do.”

Keeping focus

Finding the right match won’t be easy: The best niche targets for an acquisition won’t come cheap, and
Finish Line would have to minimize distractions from any new concept developed in-house, said Sam Poser, a retail analyst
with Birmingham, Ala.-based Sterne Agee who follows the company and has a $20 price target on the shares.

Lyon

Focus is all the more important as rival Foot Locker seeks to shift from an emphasis on basketball shoes to more directly
compete with the broader offerings at Finish Line.

“I personally think they should stick with shoes and athletics—Man Alive was a mess and bad timing,” Poser
said in an interview. “You don’t want to get distracted and do something to placate investors that in the long
run will hurt your business. The consumer is too smart. You can’t lose focus in this environment.”

Finish Line will put pressure on itself, appropriately so, to pursue nothing short of a “perfect” deal, said
Poser, who in a March 29 note to investors compared Finish Line’s recent performance to that of Jamaican sprinter Usain
Bolt.

In the report, Poser touted the company’s “pristine” balance sheet, but also listed the possibility Finish
Line will acquire another retailer or develop another concept as an “idiosyncratic risk” to his investment thesis.

He expects Finish Line will continue to raise its dividend (it already raised it by a third this year), buy back shares and
focus on the day-to-day business. The company also has been revamping FinishLine.com, where quarterly revenue jumped 46 percent.

“They’ve learned a lot from all these fits and starts,” Poser said. “What they do will be very well-thought-out
and I don’t think it will be imminent.”

The company, which has 12,000 employees and $1.2 billion in annual revenue, has the potential to boost per-square-foot sales
at Finish Line stores as much as 20 percent, to roughly $350, by investing more to showcase top brands such as Nike and defending
its market leadership in the running category, Lyon said. About 85 percent of the chain’s sales are footwear.

The 18- to 29-year-old core customers demand the best products—both in style and performance—and are less consumed
with price and loyalty to any particular brand name, Lyon said.

Finish Line can’t let its guard down on what’s hot. Take the popularity of running shoes: Rising sales aren’t
being driven as much by a resurgence in the sport of running as in the way the shoes look with the hottest styles of jeans.

Finish Line also is cashing in on another trend—those oddly shaped kicks that allegedly help tone your muscles while
walking, including Sketchers Shape-Ups, Reebok Easy Tones and a rumored new line in the works from Nike.

The so-called toning category is on track for revenue of $815 million this year, up from $190 million in 2009, and Finish
Line could collect more than $40 million as one of the largest retail beneficiaries, according to a report by the investment
bank Morgan Stanley.

“Things don’t last in the retail business,” Lyon said. “But we know premium is a winning strategy.”

Cash is king

It makes sense for Finish Line to branch out because most of its profitability gains have come from running its
business more efficiently than from an increase in revenue, but there are risks whether the company does a deal or not, said
Mark Foster, chief investment officer of Columbus-based Kirr Marbach & Co.

The majority of acquisitions don’t work in part because managers tend to get bored and assume their company’s
expertise will translate into other areas, Foster said. Yet holding so much cash—$234 million at the end of February,
up from $116 million at the same point a year earlier—also can be a liability since interest rates are so low.

The high cash balance also could make Finish Line vulnerable to a takeover attempt, although company founders hold a special
class of stock that provides a degree of protection.

“It’s a nice problem to have—a business that generates a lot of free-cash flow,” Foster said. “If
they don’t have compelling growth opportunities, the best thing to do is to give it back to shareholders. It’s
a whole lot less risky to buy back your own stock or pay a higher dividend than it is to acquire or develop another concept.”

Wedbush Securities Analyst Camilo Lyon expects Finish Line will buy back enough shares to boost its 2010 earnings per share
3 percent and its 2011 earnings per share 7 percent. The Los Angeles-based firm has an outperform rating on the shares with
a $21 price target.

Lyon said he’s in no hurry to decide on what to do with the cash.

“Timely paying our vendors and landlords is a huge asset,” he said. “People view us financially as a good
partner.”•

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Managing Editor

Schouten is an Indianapolis native and Indiana University graduate who joined IBJ in 2006 after stints at the Sarasota Herald-Tribune and the Arizona Republic. He covered the real estate beat for most of those years, and launched the Property Lines blog, before taking over as managing editor in March 2013.

Schouten has been honored for investigative and enterprise reporting by the Society of American Business Editors and Writers, the Alliance of Area Business Publications and the Society of Professional Journalists in Indianapolis. During his tenure as moderator of Property Lines, the blog was recognized twice as the best among business journals by the AAPB.

Schouten serves as secretary of the board of governors of the Society of American Business Editors and Writers, and is set to serve as the organization's president in 2016. He is treasurer of the Indianapolis Press Club Foundation, and a board member of the Indianapolis Public Schools Education Foundation.

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